It doesn't get much simpler than SEP - Simplified Employee Pension plans as an option for small businesses

Nation's Business, March, 1991

It Doesn't Get Much Simpler Than SEP For Gene Griffiths, the hassle and expense involved in maintaining his small company's profit-sharing plan became more than he could bear. So he canceled the plan and switched to a SEP--a simplified employee pension plan.

SEPs are similar to Individual Retirement Accounts, but they permit employer contributions much larger than the $2,000 limit on IRAs. Employers can set aside as much as $30,000 annually per participant--including themselves--with a minimum of complexity.

"The SEP has worked out great," says Griffiths, president of Gregory Manufacturing Co., a wood-products company employing about 45 people in Jackson, Miss. "It's the easiest thing in the world."

Although Congress authorized SEPs in 1978 expressly for small businesses, less than 10 percent of all small companies have adopted one. "I don't think the word is out on SEPs," says Griffiths. SEPs are frequently called "the pension plan almost nobody knows about."

To start a Model SEP, all an employer must do is fill out IRS Form 5305-SEP. The form has just six blank spaces. No other reports or documents are

required.

Next, ask employees to set up an IRA at a local financial institution, or you can open an account for them. Participation is mandatory for any employee who is over age 21, has worked for the company a minimum of three years, and has earned at least $300 (indexed each year for inflation).

Once a year, you decide what percent of payroll--ranging from zero to 15 percent--to put into each individual's SEP account. You must use the same percentage for everyone. But you also may change the percentage from year to year, and you may even skip years.

Once the first SEP deposit is made, mail each employee a copy of Form 5305-SEP, as well as a statement of the contributions made. That's all there is to it. The IRS doesn't even get a copy.

Employers who currently maintain any other type of pension plan or who have terminated a defined-benefit plan may not use the Model SEP. However, they may established a non-Model SEP--which means drafting special plan documents that are more complex than the model form--with IRS approval.

The Tax Reform Act of 1986 also created a variation of the SEP called a Salary Reduction SEP. It functions much like a 401(k) savings plan, allowing employees to use payroll deductions to make tax-exempt deposits into individual savings accounts. Participants in 1991 are permitted to make contributions up to $8,475 (indexed annually for inflation).

Certain restrictions apply. to establish a Salary Reduction SEP, a company must be organized for profit and must have no more than 25 employees. Participation is voluntary, but at least 50 percent of eligible employees must take part. "These plans are dramatically simpler and less expensive than 401(k)s, and they are catching on," says Dan Maul, president of Retirement Planning Associates in Kirkland, Wash.

However, research has shown that many employees regard SEPs as bonuspay plans, not retirement plans, because they have immediate access to the money, even though they pay taxes and a 10-percent early-withdrawal penalty on the amount they take out before retirement, says Paula Calimafde, a Bethesda, Md., benefits attorney.